Still Potential for Growth of ETF Use in 401(k)s

Chuck
Self, chief investment officer and chief operating officer at iSectors LLC, an
exchange-traded fund (ETF) strategist that provides model portfolios to 401(k)
plans, admits that ETFs remain a small portion of the overall defined
contribution (DC) investing pool, but he is optimistic about the future of the
product class among retirement investors—especially those working with
specialist advisers.

“The
whole idea of getting ETFs into 401(k) plans was purely a conversation until a
few recordkeepers actually started to allow ETFs to be choices on their
platforms,” he tells PLANSPONSOR. “It is a relatively recent event that has
occurred in just the past few years.”

He
says iSectors is closely involved in the ongoing rollout. Currently the company
offers a variety of 14 allocation models to advisers and their clients, which
Self personally oversees.

The
company recently announced a partnership with Alta Trust, through which it
established a collective investment fund (CIF) series utilizing active asset
allocation and low-cost index ETFs. Using the CIFs structure is one way to get
around some of the limitations of many recordkeeping platforms used by
retirement plans, Self notes, which may not be able to handle ETFs.

Charles Schwab has made progress introducing ETFs to both retail investors and retirement plan clients. In September 2014, Schwab transitioned the first 401(k) plan to the ETF version of the Schwab Index Advantage platform. That same month, it also added 60 ETFs to Schwab ETF OneSource, which was launched in February 2013 and offers retirement plan investors access to commission-free ETFs.

As of August 31, 2014, Schwab says its ETF OneSource platform has $31 billion in assets under management, and year-to-date flows into ETFs in the program were $5.9 billion, representing about 45% of the total ETF flows at Schwab.

Self
predicts Schwab and others will have slow but steady success boosting use of
ETFs among retirement investors. But, he feels more and more advisers “are
starting to believe in the potential of ETFs.”

Self
notes that most people just don’t have the ability, the time or the interest to
put together portfolios to serve their needs and goals. He says this is true
for plans relying on mutual funds, ETFs or any other investment structure.

“There
is certainly some inertia to overcome—both among the sponsor and adviser
communities—which is part of why it is taking a while to boost ETF popularity
in this space,” he says. “As you know, the way most 401(k)s are set up, the
plan investment committee is made up of people who don’t review investments as
their regular daytime job. So the thinking tends to be something like, ‘If
people aren’t complaining and they’re not threatening to sue the plan, we
better just keep doing what we’ve been doing.’

“It’s a problem in
which the incentive to do the right thing—to have the lowest costs possible and
to really ensure the plan can drive true retirement readiness—has not been
firmly established yet among many of the employers and sponsors that are out
there,” Self concludes. “The complaining from participants often doesn’t come
until someone reaches retirement age and realizes, hey, I don’t have enough
money in the 401(k) to fund a real retirement, what do I do now?”